EREC Exam #2 Flashcards
Stage 1 of Production
- when the producer will not produce any output levels below “A”
- When MPP is above APP
Stage 2 of Production
- “Economically rational stage of production”
- the rational, profit-maximizing producer will always operate in stage 2 of production
- the exact output level in this stage will be determined by the price of inputs and the selling price of outputs
- When APP finally hits MPP and APP is above MPP
Stage 3 of Production
- even though costs might not increase, total revenue would decrease
- profit cost would decrease
- APP is far above MPP
Production Function Shifters
Change in technology
Supply shocks
Change in quantity of inputs
Marginal Physical Product
The amount added to the total physical product when another unit of the variable is used in production
Marginal cost
the increment to the total cost that comes from producing one more unit of output
Fixed cost v. Variable cost
Fixed cost: occurs even when no output is produced
Variable cost: depends on the level of output to see what is produced
Accounting profit v. Economic profit
Accounting profit: the profit shown on paper, purely “revenue-total costs”
Economic profit: accounts for opportunity costs
Profit is equal to
PROFIT = TR – TC =TR - TVC – TFC
How do you maximize profit?
operate where marginal revenue = marginal cost
P > AVC
The firm recovers all of its varible cost and some of its fixed costs so it operates where P=MC
P < ATC
the firm loses all of its fixed costs and some variable costs (its better to shutdown and just lose the fixed costs)
Where is the shutdown point?
When P=ATC=MC
Where is the breakeven point?
When P=AVC=MC
Below the shutdown point:
you produce nothing
Above the shutdown point
you produce along the short run MC curve to recover all its variable costs and at least some of its fixed costs
Own price elasticity of demand:
percentage increase in quantity demanded that occurs as a result of a 1 percent reduction in price, ceteris paribus(other things being equal)
General own price elasticity formula
(Q1 - Q’1)/(.5(Q1+Q’1))
/ (P1 - P’1)/(.5(P1+P’1))
= prime
Always q over p
Example:
P Q-D
— ——
2 12
3 8
Always start with the formula
Sigma D = % change Q / % change P
= (12-8 / .5 (12 + 8 )) / (( 2 - 3)/(.5 (2+3)
= (+4/10) / (-1/ 2.5)
= +.4/-.4
= - 1
Own price elasticities (ED is…)
ED > 1, elasticity; increasing-price decreases total revenue
ED < 1, inelastic; increasing price increases total revenue
ED = 1, unit(ary) elastic; increasing the price (a little) leaves total revenue unchanged
Elasticity:
always “of” quantity “with respect to” price
Cross Price-Elasticity (of demand)
Percentage change in quantity purchased of ONE GOOD that occurs as a result of a 1 percent change in the price of ANOTHER GOOD
Cross Price-Elasticities (Exy is..)
Exy, > 0 substityes (+/+ or -/-)
Exy, < 0 Complements (+/- or -/+)
Exy, = 0 Unrelated/independent goods (0+ or 0-)
X1 = good, M = Income
Substitutes:
products that are usually considered a replacement for each other. Products that are related such that an increase in the price of one will cause an increase in DEMAND for the other
Complements:
products that are usually consumed jointly. An increase in the price of one will cause DEMAND for the other to fall
Independent:
the price of one good DOES NOT affect the quantity demanded of another good
Income elasticity (of demand):
Percentage change in quantity purchased of ONE GOOD that occurs as a result of a 1 percent change in INCOME
Income Elasticity of Demand Equation
(D1-D0)/(D1+D0)
/(I1-I0)/(I1+I0)
Interpreting Income elasticities
N > 0, Normal
N < 0, Inferior
N < 1, Luxury
0 < N < 1, Necessity
Normal goods:
IF consumption of a good goes up as income goes up. This is what we normally expect, that when people make more money, they will feel richer and buy more of most goods.
Normal goods:
IF consumption of a good goes up as income goes up. This is what we normally expect, that when people make more money, they will feel richer and buy more of most goods.
Inferior goods:
IF consumption of a good goes down as income goes up. This is the opposite of what we normally expect. Perhaps making more money changes the quality of goods that people buy?
Luxury goods:
a good for which demand increases more than what is proportional as income rises so that expenditures on the good become a greater proportion of overall spending. These goods are typically not essential, and only people with more disposable income can afford to buy them. People with higher income will spend more on these to show their affluence
Necessity goods:
product(s) and services that consumers will buy regardless of the changes in their income levels. The quantity consumed of necessity goods doesn’t change much when income changes
price taker
an individual or company that must accept prevailing prices in a market, lacking the market share to influence market price on its own
